Will “U.S. 801(k) Plans” make 401(k)s and IRAs Obsolete?

Revisiting the long-lost and now resurrected 801k teaser from Dan Ferris for his 12% Letter

The 801(k) teaser letter for Stansberry and Associates’ 12% Letter was among the most hugely successful email campaigns out there — at least, if the interest of my readers is any indication. That ad generated more questions than any other for a period of about a year …

… but that was back in 2007 and 2008, and it was never heard from again.

Until today.

Now, with a different editor running the newsletter (it’s Dan Ferris now — it was Tom Dyson back then, before he moved on and launched his Palm Beach Letter with Mark Ford), we’ve got a refreshed and rejuvenated 801(k) on our hands.

The basic teaser is that these “801k” plans will make 401(k) plans obsolete, because they can generate dramatically higher returns. The 801(k) just comes from being “twice as good” as the 401(k), though I suppose if they really wanted to double 401(k) that we’d be talking about an 802(w) plan. Not as sexy, eh?

DRIP stands for Dividend ReInvestment Plan, DSPP for a Direct Stock Purchase Plan, and the terms are often used interchangeably. In this context, they are direct accounts offered by many individual companies that allow you to buy stock directly from the company on a set schedule (ie, $25 or $100 a month, for example), and to reinvest your dividends automatically.

DRIP/DSPP plans certainly exist and work, and you can open them with many of the best companies in the country. But on the whole, they do not offer anything dramatically different than you would get by buying the same company stock from a discount broker — many people do still recommend them, and they can be a valuable part of some investing strategies, but similar performance is certainly available by using low cost or free brokerage accounts.

And even though the term 801(k) is clearly designed to make you believe that there is some magic tax connection here, these plans have nothing to do with taxes — they are all taxable, to my knowledge, though I’m not a tax advisor (since they’re run through the clearinghouse companies who handle accounts for hundreds of companies, there may well be IRA versions of these accounts). And they have nothing to do with the company match you might get in a 401(k) plan, or with the pre-tax contributions many people can make to a 401(k) or a traditional IRA. As I’m sure is obvious to many of you, there is no section 801(k) in the tax code.

DRIP plans from individual companies offer a slight discount (sometimes — on the other hand, they sometimes also charge fees), dollar cost averaging, partial share purchases, investing discipline, and automatic reinvestment of dividends. This last bit, in particular, was revolutionary in the 1960s when brokerage accounts were uncommon and commissions high.

Today, in my opinion, you can easily do much the same thing through most discount brokers with easier bookkeeping and management, though of course it all depends on your specific circumstances, preferences, account size, and goals.

Essentially, this is how the process works for both a DRIP plan and a standard brokerage-managed dividend reinvestment plan:

For the DRIP/801(k) strategy:

Buy one share of a company’s stock, you might have to get the actual certificate and make sure the share is listed in your name (not in “street name”, as it might be at most brokers). Some companies make this easier than others and will let you do it through their transfer agent, others make you buy the shares before you contact them. This has gotten much less complicated over the years, it used to be a deterrent but probably isn’t much of one anymore.

Set up a DRIP/DSPP account with that company. For McDonald’s, for example, you would go to this page for the info, prospectus, and enrollment form. Nearly all companies that offer these plans provide information on their website, though some hide it better than others. Alternatively, you can also now search through the offerings from the various transfer agents to see which companies they cover, which can make it a little easier to set up multiple companies. Almost all of the direct purchase plan are run through large firms like Computershare or AmStock or BNY Mellon.

Set up your ongoing purchases — decide whether you want to put in $50 a month, or $100 a quarter, or whatever you want (within the individual company’s guidelines — they’re all different, even if they’re through the same transfer agent).

Start over with the next company you want to set up a DRIP with, and set up your files to enable you to track the individual accounts that you have with each of these companies. Recordkeeping and tax accounting has also improved over the years, but it’s still not necessarily as simple as brokerage account recordkeeping

Repeat until you’ve got your full portfolio set up of 2, 3, 5, 10, or 12 companies — as many as you feel like managing.

Watch your investment slowly grow as you dollar-cost-average in with more purchases on a regular basis, and allow all of the dividends to be reinvested in more shares.

For a more streamlined strategy:

Open a discount brokerage account with a broker who will offer free dividend reinvestment and low commissions. Sharebuilder is set up for exactly this purpose and is pretty good for some folks, but if you want more flexibility or Sharebuilder doesn’t work effectively with your account size, any discount broker will work. I personally use Ameritrade among the discount brokers, and there are certainly plenty of others like TradeKing.com, Scottrade, E*trade and many more that might work for you.

Buy as many shares of a particular stock as you want. Buy as many shares of another stock as you want. And another.

Tell your broker that you want to reinvest your dividends. Almost all discount and full-service brokers will do this for you, for free.

In my opinion, the main valuable thing that DRIP/801k plans offer to small investors that your standard discount broker doesn’t is fractional share purchasing — that’s what allows you to invest a set dollar amount every month without worrying about the exact price of the shares. For McDonald’s, for example, you might be investing $50 a month even though the price is $120 per share one month and $70 per share another month — you just get fractional shares. If you’re using a free or discount broker instead, you have to buy some number of whole shares (though that number can be 1 if you like). Most brokers do allow fractional shares for dividend reinvestment, just not for outright purchases, and you should (and hopefully would) earn dividends on those fractional shares no matter who you buy through.

If you were using a regular discount broker, you would probably want to invest at least a couple hundred dollars at a time to make sure the commissions are a small percentage of your investment — I think keeping commissions at 1-2% is a reasonable goal to shoot for, which with a $5 commission would mean investing at least $250 at a time. Most DSPP/DRIP/801-k plans have lower minimum investments than that, though some do not. Pfizer, for example, requires $500 to set up the account but only $50 for each subsequent investment.

If you really want to “dollar cost average” in to positions, and invest $100 or $300 a month or whatever amount works for you, probably the only easy way to do this and have a diversified portfolio with fractional share positions is with Sharebuilder (or perhaps some competitors, if there are any left). This subsidiary of ING, the big European bank, is essentially a brokerage firm that is set up to handle DRIP plans, though they don’t call it that. This is the only way to easily invest $10 a month into 8 separate companies, for example, and have your dividends reinvested. Sharebuilder cut into their fees a while back so it’s less likely that they’d become onerous unless your account remains very small (their fees are here, fyi), but placing “live” trades or selling your shares is more expensive than the incremental buying that Sharebuilder is known for. Still, if you want the convenience of a DRIP plan that is flexible, and doesn’t require buying shares of individual stock and setting up personal accounts with many different companies, this kind of thing might be worth it for you. And unlike with a DRIP or DSPP company direct plan, Sharebuilder or most discount/free brokers make this kind of thing simple for IRAs as well as for taxable accounts.

And finally — do note that that if you decide to open a DRIP plan or a DSPP plan through an individual company, they generally all have different account minimums, discounts or fees, and general policies.

On the plus side, if you’re the kind of person who is a reckless emotional trading addict and is trying to lock himself into being a buy-and-hold investor, these plans can be great for that because they make it quite a bit more inconvenient to sell your stock — you can’t quickly sell the stock and have it in your account 15 minutes later so you can buy the next hot Chinese IPO. For some people, that’s probably a good thing.

And no, Ferris did not pitch any specific “801k” companies in this particular ad — he mentioned a couple stalwart dividend payers like Paychex (PAYX), which, along with larger competitor ADP (ADP) has been a favorite dividend reinvestment firm for a long time, and past teasers from the 12% letter have generally similarly focused on “blue chip” dividend growth stocks that Ferris refers to as “World Dominators,” firms like Wal-mart (WMT), Coca Cola (KO), Procter and Gamble (PG), Colgate (CL), Johnson & Johnson (JNJ), Intel (INTC), Microsoft (MSFT), McDonald’s (MCD) and the like. Note that I do NOT know if he’s currently or has ever specifically recommended any of these. And that’s reasonable, when you’re building a steady and “safe” portfolio of stocks for dividend reinvestment, stability of earnings and growth of the dividend are the key considerations, you’re not betting on a stock that will double in a year or even in five years, you’re betting on steady compounding growth as each dividend adds to your holdings slightly, and builds on that next dividend slightly until you open that statement a few years later and are pleasantly surprised to see how the holding has grown.

It’s not sexy, but if your grandparents built stock market wealth that’s probably how they did it … and it’s a lot more consistent than picking hot mining or biotech stocks or trading options or staring bleary-eyed at stock charts all day and churning your portfolio. Not that those other options, with their occasional 1,000% gains, aren’t a lot more fun to try at with some of your play money, of course.

And as always, happy investing and thanks for reading … and feel free to share your thoughts on dividend reinvestment, direct stock purchases, Dan Ferris, or anything else along those lines, that’s what our friendly little comment box is for!

P.S. I just noticed that this particular ad also touts another “special report” investment that he’ll share with you when you subscribe — that’s the “Toronto Income Secret,” which we covered here about a year ago (no, you can’t DRIP into that one). So there’s one specific stock you can look at if you like.

Share your thoughts...

Thx for the option to avoid the extra “blather” and cut to the chase by stating it’s FFH.

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May 21, 2012 4:05 pm

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Todd Bludeau

Dear Travis,
The Stock Gumshoe is by far the most valuable newsletter published about the stock market IMO. The “teaser” newsletter writers must really dislike you for cutting through their endless copy of alluring, mouthwatering text and and getting right to the stock they’re teasing with your ingenious Thinkolator! I’ve personally canceled most of my subscriptions to them as a result of the Stock Gumshoe (and I have had many of the ones you write about on a daily basis). Thank you so much for your tireless investigative work for all small investors such as myself.

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May 21, 2012 5:25 pm

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JB

I use Scottrade as my discount broker at this time and last I checked, they do not offer any DRIP programs. Wish they did!

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May 21, 2012 5:31 pm

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andrea

I am a ” sharebuilder” . and it has worked out real well for me , I invest about 75 or so monthly in some share’s . I try to only go for those nice dividend payers. tho sometimes i veer of my plan and always pay for it, in the end. How ever , ING sharebuilder is now Capital One Bank! there are no more service’s then before ( no OTC share’s much). But just the fact that I now am a customer of a US Large bank , doesn’t set well with me , so I will be… Read more »

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May 21, 2012 5:48 pm

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Neal Fitzpatrick

I too am unhappy with the Capital One owning the ING shareholder and am further dismayed to report to you that Scott Trade (who I am very happy with) has no comparab le program at the moment.

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May 21, 2012 6:05 pm

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Ira Cotton

I prefer to accumulate dividends until I have enough to open another position or add to a position I specifically choose. I can see the appeal of the immediate reinvestment approach, particularly because it’s automatic.

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May 21, 2012 6:55 pm

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Neal Fitzpatrick

DRIPS are between you and a given company…….the idea is no broker at all. The SHAREBUILDER program is a reasonably priced way of buying a few stocks for a flat price month after month or some other pre-planned time.

Yes, that’s the idea of DRIPs — but the real point of that, originally, was to avoid brokerages, which charged high commissions and were generally hard to get in touch with for small investors. Now, with DRIPs almost all run through transfer companies (which, in effect, are not terribly unlike low-service brokers) and with inexpensive or free brokers available to any investor, I think the distinguishing factors of the direct DRIPs are limited, though they do still have their place.

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May 21, 2012 8:14 pm

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Conshana

The last I checked with Scottrade, a year ago, they did not offer dividend reinvestment programs: all dividends had to be paid to the account holder. That may be changed now, but I was told at that time, it would be too difficult to set up reinvestment of dividends on stocks that paid dividends. I’ll grant that this may be a different situation, but I’d be leery of using Scottrade for this program.

Very surprised to hear that about Scottrade — I think automatic dividend reinvestment should be a basic core service for any broker, discount or otherwise. Can’t say that I’ve researched all of them, though, and have only used a few personally.

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May 21, 2012 10:47 pm

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oldfatfella

I get my dividends re-invested automatically thru TradeKing. Works good. No fees. Though I do wind up with partial shares of some stocks and if you want to divest yourself of a particular holding those partial shares don’t get sold so you have to wait until they become full shares thru the dividend re-investment to sell them. Not really worth it on those if the sell fee eats them. Oh well, stuff happens.

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May 21, 2012 11:09 pm

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jeff

how have your DRIPS done?

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May 24, 2012 4:04 am

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oldfatfella

I did have the majority of my holdings at Scottrade but when I wanted to re-invest dividends it was pay the $7.00 and do it yourself or switch. I did switch to TradeKing and along with lower fees have free dividend re-investment. I like it.

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May 21, 2012 11:12 pm

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Binyomin

Buy and Hold is a good alterantive to Sharebuilder. It is not as slick as Sharebuilder but it does the job well. I use it for UGMA accounts for my kids and dollar cost average into it automatically every 2 weeks. Here are their fees

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May 22, 2012 12:45 am

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Stansberry CS

If you have any questions about Stansberry and Associates, please do not hesitate to call customer service at 1-888-261-2693. We would be happy to assist you. We are open Monday – Friday 9-5 EST.

One man’s experience with DRIP accounts. For awhile, several years, used DRIPS as my sole stock investment vehicle. After awhile “discovered” Sharebuildier and their $9.95/per trade together with automatic fee free re-investment of dividends . Gradually sold out of most of my DRIPS as found that the some of the re-investment fees and almost of the selling fees were significantly higher, the convenience of trading much easy than with the DRIP accounts, and a much wider selection of stocks is available via Sharebuilder. While still maintain some of the DRIP accounts, for last couple of years all of my new… Read more »

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May 22, 2012 10:20 am

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mesa1546

I have been using WellsTrade, online account at Wellsfargo. By being a PMA customer, 95% of my trades are commission-free. One is entitled to 100 free trades per account per year so if you have 5 separate trading accounts with them, then you can use 500 free trades. DRIP is free & automatic once you set up your accounts that way. It’s easy & convenient.

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May 24, 2012 9:51 pm

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David

I knew that DRIPs existed before I read the 801K teaser, so I was able to figure out what they had to be talking about, but all the same it’s nice to have confirmation that I was right. Plus you here at gumshoe gave me several ways to pursue the opportunity if I ever want to do that. Thanks! But I’m not wanting to limit myself to big, old blue chip companies that have been in business for at least 50 years (I think DRIPs were invented in the 1960s, definitely before discount brokers). They generally have a smaller yield… Read more »

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July 10, 2012 5:57 am

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Mary Ann

IN the latest version of the 12% letter hype, they tout the President Bush Retirement bonus that supposedly sets up several energy companies to be significantly profitable and, of course, payers of ever higher dividends.
Anyone know what this is about?
Thanks.

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August 4, 2012 5:18 pm

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Mary Ann

Found it, thanks.

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August 4, 2012 6:13 pm

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chumbly

Your website is great. You take the mindless drivel and sales pitches out, and leave only the substance. I’m surprised that SA hasn’t sued you yet.

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